Johnson Controls investors in a tight spot
The company has a great long-term story, but its building energy business has hurt the overall picture.
You might think that the problem with Johnson Controls (JCI) was its exposure to the auto industry -- especially the auto industry in China, where the company has a 45% share of the auto-seating market. After all, auto sales are slowing in China, and European auto sales didn’t exactly zoom ahead in 2011. Or in the auto battery business, which is exposed to, you guessed it, any slowdown in auto sales.
But, no, the problem for nine of the last 10 quarters has been in the building energy systems segment. In the December 2011 quarter -- the first quarter of the company’s fiscal year -- revenue growth in the building energy segment came in at 3%. That well below the projected 7% growth for the segment. Operating profit was about 20% below forecast and margins were also below forecast.
The problems with the building energy systems segment have meant that Johnson Controls has badly underperformed purer-play auto suppliers such as BorgWarner (BWA). Shares of BorgWarner are up more than 23% this year. Shares of Johnson Controls are up 1.6%.
And I think Johnson Controls is likely to get hit by underperformance in its building energy systems segment again when it reports fiscal second-quarter earnings on April 20. Johnson Controls didn’t use the last quarter to cut its forecast for the building energy systems unit to the bone in order to engineer the chance for a positive earnings surprise. Instead, the company held to its target for the business and continued to look for margins for 2012 to improve by 0.5 to 0.7 percentage points over 2011. That seems really unlikely, since the company was already behind the 2011 pace at the end of the first fiscal quarter.
In other words, there’s a good chance that Johnson Controls will disappoint again when it reports fiscal second quarter earnings on April 20. (For the first quarter, the company reported earnings of 60 cents a share, 2 cents a share below analyst projections.)
So what do you do if you continue to like the company’s long-term story, as I do, but are frustrated by the way the continued negative surprises from the building energy systems business have negated the company’s strengths in auto interiors and batteries? (The stock is a member of my long-term Jubak Picks 50 portfolio on the strength of that long-term story.) Unfortunately, it’s also a member of my 12-18 month Jubak’s Picks portfolio, where it’s done nothing good since 2010. The shares fell 16.4% in 2011. Fortunately, I bought in September 2009 so I caught part of the 52.9% gain in 2009 and the 42.3% gain in 2010.
But that’s ancient history. What do you do now?
The stock is cheap at a trailing 12-month price-to-earnings ratio of 11.49. The Wall Street consensus is that Johnson Controls will show earnings growth of 14.6% in fiscal 2012 (despite its building energy systems problem.) Bloomberg calculates the company’s enterprise value at $27.8 billion, but the stock market gives it a market cap of just $21.6 billion.
If you don’t own the stock, I’d certainly wait at least until after earnings on April 20 before thinking about buying. The March quarter is likely to be a stinker -- Wall Street estimates a 5.8% earnings decline from the March quarter of 2011 and, given Johnson Controls’ recent history, an earnings miss isn’t out of the question.
But if the shares do fall further or even stay near the recent range of $31 to $33 a share, I’d certainly step up with some buying. The consensus for the June quarter calls for earnings growth of 32.8%. (Watch the April 20 conference call to see if Johnson Controls cuts its guidance for the second half of fiscal 2012.) For fiscal 2012, Wall Street is looking for earnings growth of 14.6% and then for 22.6% in fiscal 2013.
If you already hold the stock, I don’t think there’s much point in selling now in order to rebuy in a month or two or three in the hope of making a couple of bucks on the trade. You’ve hung in so far and, although I suspect Johnson Controls will disappoint on April 20, I think most of that disappointment is in the stock price.
I’d certainly cut my last and wildly optimistic target price of $55 by March 2012. But I think $44 a share by April 2013 is certainly reasonable, especially if the U.S. commercial real estate market recovers -- and U.S. auto sales continue to climb -- with a gradually strengthening U.S. economy.
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